The Case Against Apple

The stakes are high for Apple at its upcoming e-book trial—and the odds may be long

By Andrew Albanese
|

May 25, 2013

At what was supposed to be a routine final conference last Thursday, May 23, before the June 3 start of the government’s trial of Apple over e-book price-fixing charges, the company and its lawyers were given a glimpse of the challenges they face in clearing Apple’s name. When Department of Justice attorney Mark Ryan asked Judge Denise Cote to share her initial impressions of the case, Cote said her “tentative view,” based on the government’s direct evidence, was that the government would prevail. She added that she was already at work on her opinion—although, obviously, no final judgment has been reached.

In a statement, Apple attorneys said they “strongly disagreed” with Cote’s view—but surely they were not surprised. While media reports characterized her remarks as a “blow to Apple,” they reflected the reality of the case. “I personally think [the government’s case] is very, very strong,” said Christopher Sagers, a professor at Cleveland State University who specializes in antitrust and has followed the case closely. “For Apple, this is a ‘fact’ case. Apple has to prove that the facts alleged by the government are incorrect, because if everything the government alleges is proved at trial, Apple surely loses.”

Cote’s remarks were also unsurprising considering her earlier opinion in approving the DOJ’s initial settlement with three publishers last September, in which she called the matter a “straightforward price-fixing case.” She added that the government had provided “a sufficient factual foundation as to the existence of a conspiracy to raise, fix, and stabilize the retail price for newly released and bestselling trade e-books; to end retail price competition among trade e-books retailers; and to limit retail price competition.”

The Case

In its pretrial filings, both Apple and the government laid out their “facts and conclusions”—essentially their playbooks for the trial. When the trial begins, the government will argue that Apple coordinated “a horizontal conspiracy” to eliminate retail price competition from the e-book market. And, from the voluminous evidence assembled—including e-mails, records, and direct testimony from executives at each of the Big Six publishers and Apple—it is clear that the government has a powerful case.

The DOJ narrative goes like this: Apple executives understood that the company could not compete with Amazon in the e-book business on price, while publishers were increasingly worried that Amazon’s below-cost pricing of e-books would permanently devalue books in consumers’ minds, harm the physical book market, discourage any new competitors from emerging in the field, and, ultimately, give Amazon leverage to get better wholesale terms from publishers.

Sensing an opportunity, Apple coordinated a scheme, led by then-president of Internet and Software Services Eddy Cue, around the upcoming release of the iPad. Using the tight timeline of the iPad launch—announced in January 2010—and exploiting publishers’ fears of Amazon’s growing dominance, Cue and his team simultaneously negotiated identical proposals with publishers designed to move the industry from a wholesale model to an agency model, and apprised each publisher of the progress of the others. Under Apple’s terms, publishers would take back control of consumer pricing while using a “most favored nation” provision to guarantee that Apple would not be undersold. The publishers got what they wanted, and Apple was able to enter the e-book market without having to compete on price with Amazon. And, using the iPad launch, coordinated by Cue, the publishers would be able to move Amazon to an agency model collectively, eliminating the fear of retribution against any one company. The plan worked. Apple began selling e-books, and the publishers moved the market—and Amazon—to an agency model, resulting in increased consumer prices for new releases and bestsellers.

Apple’s Defense

Based on its pretrial filings earlier this month, Apple’s defense can be boiled down to three major points. First, the company will argue that there was no conspiracy. Although Apple openly admits it exploited the tight timeline around the iPad launch and publishers’ well-known concerns about Amazon’s pricing, the company says it was only looking out for its own business interests. It never spoke to more than one publisher at a time, and it engaged in “contentious, individual” negotiations with each publisher.

While publishers eventually agreed to almost identical terms, Apple attorneys argue that this is consistent with the company’s approach to all of its digital content business. Apple also says it was not aware of—nor party to—any “intra-publisher” conversations that may have been going on, and that Cue reassured each publisher of the others’ participation only in an effort to ensure the success of the company’s e-book store.

The second point Apple will argue is that, secretly, Amazon was in favor of an agency model. Apple attorneys say that Amazon officials had engaged in discussions about an agency model with publishers prior to any publisher agreements with Apple, that it had moved parts of its Kindle business—the self-publishing platform, for example—to agency, and that Amazon’s e-book margins actually improved under agency.

And third, how can there be an anticompetitive conspiracy, Apple asks, when there has been such robust new competition in e-books? Overall, Apple expert witnesses will argue that e-book sales have surged, innovation has increased, devices have improved dramatically, and more competitors are now in a space that was once dominated by a single company—Amazon. They will argue further that e-book prices have not risen across the ecosystem of e-books, and the DOJ’s carving out of bestseller prices does not represent the legally relevant market here. Although some prices have risen, they have only risen because Amazon is now precluded from applying its previous policy of pricing books below cost, which Apple portrays as truly anticompetitive.

The Stakes

Meanwhile, Apple will now be alone at the defense table. Early last week, Penguin announced that it had settled its state and consumer class action claims for $75 million, a sum that could top $90 million with fees and costs. In all, the five accused publishers have agreed to pay roughly $165 million to consumers, and another $30 million or so in fees and costs to settle state and consumer claims. For Apple, the stakes could be even higher, given its alleged role as “ringleader” and its considerable wealth.

Writing a check to settle state and consumer claims, however, would surely be the least painful part of a loss for Apple, as the company is sitting on piles of cash. The DOJ does not seek money damages—rather, it seeks compliance. And a loss for Apple would mean sanctions, and government oversight of it content businesses, much like the terms publishers agreed to in their DOJ settlements.

Apple has more than e-books at stake, observed James Grimmelmann, a professor of law at the University of Maryland and a PW contributing editor. “If this pricing model is suspect for books, are apps and music next?” Grimmelmann asked. Sagers agreed, noting that the DOJ could have wide latitude in fashioning its compliance terms. “The power is pretty broad,” he said. And then there’s the reputational hit, as well—especially as Apple’s tax policies have been the subject of Congressional inquiries. “Apple could probably do without the political fallout of being found to be the ringleader in a conspiracy to violate the antitrust law,” Grimmelmann noted.

At the end of the May 23 hearing, Cote told the parties they could call her any time to talk settlement. But even with so much on the line, she probably shouldn’t wait by the phone. It is highly unlikely that Apple will invite the DOJ to just come in and set up shop in Cupertino—the government will almost certainly have to earn that privilege at trial.

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